Breakeven Determination of Loan Limits for Reverse Mortgages Under Information Asymmetry

Posted: 26 Mar 2014

See all articles by Ming Pu

Ming Pu

Southwestern University of Finance and Economics (SWUFE) - Research Institute of Economics & Management

Gang-Zhi Fan

School of Management, Guangzhou University

Yongheng Deng

Wisconsin School of Business, University of Wisconsin-Madison

Multiple version iconThere are 2 versions of this paper

Date Written: March 24, 2014

Abstract

Since the loan limit of a reverse mortgage is a major concern for the borrower as well as the lender, this paper attempts to develop an option-based model to evaluate the loan limits of reverse mortgages. Our model can identify several crucial determinants for reverse mortgage loan limits, such as initial housing price, expected housing price growth, house price volatility, mortality distribution, and interest rates. We also pay special attention to the important implication of mortgage lenders' informational advantage over reverse mortgage borrowers concerning housing market risk. In reverse mortgage markets, the elderly borrowers typically hold far less, relative to the lenders, or no information about the lenders' underlying mortgage pools. Such information asymmetry leads these two categories of market participants to generate different perspectives on the risk of the collateralized properties, which can be identified to be important in determining the maximum loan amounts of reverse mortgages. We further find that maximum loan amount of a reverse mortgage decreases in the correlation between the systematic return and the return on its underlying housing property but increases with the number of the pooled mortgages.

Keywords: Reverse mortgages; Heterogeneous beliefs; Information asymmetry; Loan limits

JEL Classification: G21, G22, J14

Suggested Citation

Pu, Ming and Fan, Gang-Zhi and Deng, Yongheng, Breakeven Determination of Loan Limits for Reverse Mortgages Under Information Asymmetry (March 24, 2014). Journal of Real Estate Finance and Economics, Vol. 48, No. 3, 2014. Available at SSRN: https://ssrn.com/abstract=2413931

Ming Pu

Southwestern University of Finance and Economics (SWUFE) - Research Institute of Economics & Management ( email )

55 Guanghuacun Street
Chengdu, Sichuan 610074
China

Gang-Zhi Fan (Contact Author)

School of Management, Guangzhou University ( email )

230 Wai Huan Xi Road
Guangzhou Higher Education Mega Center
Guangzhou, Guangdong 510006
China

Yongheng Deng

Wisconsin School of Business, University of Wisconsin-Madison ( email )

4110 Grainger Hall
975 University Avenue
Madison, WI 53706
United States
+1 (608) 262-4865 (Phone)

HOME PAGE: http://https://bus.wisc.edu/faculty/yongheng-deng

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